Fed to inject $8 billion to ease end-of-year credit squeeze 27 November 2007

The US Federal Reserve has said on Monday 26 November that it would provide up to $8 billion in funds to ease concerns about lending during the holiday season and reassure banks during the continuing credit crisis.

The amount will come in the form of a low-interest loan to the nation's banks. It will be issued on Wednesday, and must be repaid by 10 January. The 43-day loan period is the longest in the last three years for this type of year-end injection.

Such fund injections are not an unusual step for the Fed, but the injection usually takes place later in the fourth quarter and mostly involves a smaller amount. In 2005, the last time the Fed issued year-end funds, they came in the form of 28-day repurchase agreements for $5 billion, starting 8 December.

Banks can become extremely reluctant to give loans during the year-end holiday season. Even as consumer demand for loans during the holiday spending season goes up, banks want to close out their yearly balance sheets with a large amount of capital and investments in safe-haven securities like treasury bonds.

This year, the credit crunch has made banks hesitant to even provide other banks with overnight loans, a crucial component of the nation's economic bloodstream. Large institutions are reluctant to let money go, even for overnight lending. They prefer to hold on to cash.

The Fed's New York branch, which oversees domestic money supply, has said the funds were issued owing to greater pressures in money markets for funding through the year-end. The Fed has also promised to provide sufficient reserves if banks are reluctant to provide overnight funds at the prescribed lending rate, now 4.5 per cent.

Analysts feel the planned injection of funds is meant to ease pressures on the Fed to lower its federal funds rate at its meeting next month. The Fed has indicated it would prefer to keep the rate steady, but most market watchers say a reduction is needed to avert a broad economic slowdown, resulting from mortgage and credit market problems.

Investors, however, overwhelmingly expect central bankers to cut rates by at least a quarter-point during its 11 December meeting. The Fed funds futures market has indicated an increased probability of a cut on Monday 26 November.

Nonetheless, analysts say the $8 billion injection could put some banks at ease, sending a signal to the markets that the Fed is on top of things and the market need not be so nervous.

General reports on Economy

General reports on Banks & Financial Institutions